UPDATE 2-India's Modi signals shift in favour of big retail
* BJP party has big support base among small traders
* Modi, ahead in polls, says do not fear competition
* India's $500-billion retail sector an electoral issue
NEW DELHI, Feb 27 (Reuters) - India's opposition leader - who polls suggest may be elected prime minister this year - said on Thursday small retailers must learn to work with large modern stores and online companies, signaling a shift in policy on a key electoral issue.
Narendra Modi's Bharatiya Janata Party (BJP) opposes the government's move to let foreign supermarkets open in India, saying they are a threat to millions of grocery stores and traders who form a pillar of party support.
Modi, 63, chief minister of Gujarat state which has enjoyed strong growth during his decade in office, has given few clues on how he would steer the national economy whose growth has any slumped.
The Hindu nationalist leader is widening his poll lead before a general election likely to be held in April and May. The Pew Research Center said Indians favour Modi as prime minister over his rival, ruling Congress party candidate Rahul Gandhi, by a margin of three to one.
However, his coalition is still short of a majority and it is notoriously hard to predict winners in India's multi-party political landscape and first-past-the-post system.
Sketching out his economic views in a series of speeches on Thursday, Modi said India must boost trade thropugh "economic diplomacy" and slash red tape, and said it needed a strong government to restore investor confidence.
He criticised the outgoing adminstration of Manmohan Singh for almost halving the pace of economic growth.
"If we come to power, first we will have to fill up the potholes created by this government," he said.
Modi did not reiterate his party's stance against foreign supermarkets and declined to oppose a proposal to allow foreign investment in online shopping.
Instead, he urged small traders to improve their own quality to compete better and said they could enter into contracts with big online retailers to create "virtual trade".
"We should not worry about the challenges from global trade," Modi told the Confederation of All India Traders. "The government should not look to curb online trade. We should not worry about these things. Our children have taken IT to the world. We'll have to embrace it."
Later, Piyush Goyal, a member of Modi's economic planning team, said the party's policy had not changed.
Prime Minister Singh threw open India's $500-billion retail industry to foreign investors late in 2012, allowing chains such as Wal-Mart and TESCO to own majority stakes in Indian stores for the first time, subkect to approval by individual states.
This month, the newly elected BJP government of Rajasthan decided to maintain the ban on foreign chains, the second state to do so. Fewer than half of India's 28 states have agreed to implement the policy.
India's small traders had hoped Modi would vow to make opposition to foreign retailers a part of the party's manifesto, due to be released in the next few weeks.
Many large Indian retailers, some of them capital-constrained, welcome liberalised investment rules that would bring funding and technology into the sector
Kishore Biyani, chair of the large diversified Indian retailer Future Group, said: "This looks like a strategic direction which is being set ahead of the elections and it's a very welcome one."
"These comments and clarity will help everyone in the industry and foreign players to take decisions."
In his speeched Modi also said he wanted more investment in areas such as biotechnology and renewable energy and said he favoured introducing a nation-wide goods and services tax (GST), a long-planned reform to create a uniform market, cut business costs and boost government revenue.
State governments, including Modi's Gujarat, have resisted a GST, fearing that they would lose revenue if the current array of levies were replaced.
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